The Blog @ Spolitics

Social Security Privatization for Dummies (aka Democrats)

by Heywood U. Reedmore -- October 29, 2008 at 1:02 pm | In 2008 Election | 1 Comment

Barack Obama and his fellow Democrats are cynically using the current market turmoil to scare people about Social Security privatization. So, let’s clear the hot air with some common sense.

First, all of the plans that have been aired to date call for partial privatization. Whatever amount (say 50% of contributions) went into a private account, the difference would be offset by a comparable reduction in benefits (in this case, 50%). However, because the stock market earns an average of 8% a year (compared to Social Security’s pathetic 2%), the private accounts would lead to much larger retirement income for all Americans. And most importantly, the private accounts would be private and therefore, could be bequeathed to loved ones when a person passes away, helping all Americans build wealth.

Now, if a plan like this were to go into effect it would mean that Americans would be dollar-cost-averaging their contributions over 40 years. Forty years ago the DOW was under 1,000. Despite the recent drop, the DOW is still around 9,000 — a lot higher than its 40-year average. So someone looking to retire in the near future would still be up considerably.

Furthermore, sound financial planning would dictate that people nearing retirement shift their assets into bonds and cash as they approach 65 years of age. Someone near retirement shouldn’t have more than 30% of their retirement savings in the stock market.

Let’s put it all together: In this scenario, only 50% of your contributions are private and only 30% is in stocks. So only 15 cents of every retirement dollar is in the market. With the market dropping forty percent, you’re down 6 cents, or 6% — and this only if you cash out now before a recovery. Hardly a catastrophe.

There are also two very important points to keep in mind. First, in this scenario 35% (half of 70%) of a pre-retiree’s retirement savings is in bonds which have appreciated, helping to offset their stock losses. Second, they’re down 6% from an arbitrary date, not off of the price they actually paid over the past forty years. Because they’ve dollar-cost-averaged their contributions over four decades, they are still up substantially from the average price they’ve paid and they’ve still earned a much greater return than the 2% Social Security earns.

The typical Dem response to this is that people are not smart enough to handle their own money. Even if that’s true, it means that rather than help spread financial literacy, Democrats would rather just take away your money and hold onto it for you — only giving it back when and how they decide to.

One last point to make. Your Social Security contributions are not deducted from your taxes (unlike IRA and 401(k) contributions). If you make $50k a year, $3k goes toward Social Security but your still pay taxes on $50k. Your contribution costs you $750 in taxes on money you won’t see for decades. This means you’re starting with a negative rate of return of 1.5%. And of course, the government taxes your Social Security check as well. That’s if you live long enough to collect one. Otherwise, Uncle Sam keeps your money. Compared to both the Roth and Traditional IRA, as well as the 401(k), Social Security is the worst deal going.

Our current Social Security system is broken and it will over-burden future generations if we don’t fix it. Using scare tactics to preserve a broken system is definitely not change we can believe in.

See also: Democrats Trying to Scare Americans for Halloween.